Commentary, information, and intelligent discourse about the Irish economy

An EU budget for the fifties not the future

This was the reaction of Swedish EU affairs minister Birgitta Ohlsson to the publication yesterday of the Cypriot Presidency’s revised proposal for the next EU multi-annual financial framework (MFF) covering the period 2014-2020. This is because it proposed big cuts in research and cross-border infrastructure while largely protecting the CAP budget in line with the Commission’s proposal.

The Commission has proposed a trillion euro budget (actually €1,091,551 million for EU-28 including off budget items) for the seven-year period which, depending on how the comparison is made, is seen as representing a 5% real increase in the resources available to the EU. The European Parliament, never shy about spending other people’s money, considers this a minimum amount and would prefer a higher increase. In the other arm of the budget authority, the Council of Ministers, opinions are split. The net recipients, grouped in the ‘Friends of Cohesion’ group, support the Commission proposal. The net payers, which form the ‘Friends of Better Spending’ group, want to rein back the Commission proposal to a real freeze in resources or even more. But there are differences within this group over whether the cuts should fall on the CAP or cohesion budgets (both of which are roughly 40% of the total) or on the remaining headings which account for just 20%. Not surprisingly, both the Commission and the Parliament’s Budget Committee reacted caustically to the Presidency proposal yesterday.

The Cyprus Presidency proposal explicitly sets out the implications of how a reduction in €50 billion might be made, while recognising that in the negotiating endgame further cuts will be required. The following graphic shows how it proposes the cuts should be made (all changes relative to the Commission’s revised MFF proposal in July 2012). Further details on the makeup of these figures can be found in this post.

The protection of farm spending in the EU budget emerges clearly from these figures. While in the short-run the Irish authorities will be pleased with this outcome (even if they will not state this in public, we are negotiating after all), it is worth asking whether our longer-term interests would not be better served by a budget for Europe rather than a budget for farmers.

It is remarkable, however, that he manages to omit any real analysis of the elephant in the room; the UK rebate. The deal struck by Thatcher reflected a historical compromise which reconciled the UK to EU membership by, effectively, removing its contribution to the cost of a detested major policy – the CAP – while remaining a net contributor. As the broad circumstances have not changed – other than that a re-united Germany has a bigger interest in maintaining the CAP – it seems likely that there will be political recognition that the deal must continue. The real political difficulty relates to (i) who makes up the cost and (ii) UK objections to any rise in the budget pushing up the size of its net contribution.

The only realistic measure that assesses the political and economic costs is the size of net or positive balances relative to GNI. The historic record on this is buried in the Commission’s annual financial report.

Of course, the EU budget is of no macro-economic importance whatsoever at an EU level. However, it is of significant political importance, and for those countries that are substantial net recipients, of major domestic economic importance.

The European Parliament’s role has been enhanced by the Lisbon Treaty. It provides this useful interactive tool with regard to the present allocation of benefits and costs across the EU. (These had to be worked out to enable the UK rebate mechanism to function i.e. its share of expenditure could not be calculated without calculating the share of every other country. Enshrining the principle known as ‘juste retour’ could be considered, not entirely facetiously, as Thatcher’s contribution to the history of the EU.)

What emerges, if both documents are contrasted, is that (i) GNI net contributions are roughly in line with what one expect, with the exception of the UK (ii) the bulk of the cost of the UK rebate is borne by France, Italy and Spain as Germany negotiated a 75% reduction in its assessed share (!). The Netherlands, Sweden and Austria piggy-backed on this concession and Denmark now wishes to join the action. The Danish PM has put a figure on the concession required and has said that Denmark will veto any agreement that does not give it satisfaction.

Given that the countries that are complaining that their net contributions are excessive are – with the exception of the UK – the major beneficiaries of the present economic imbroglio, one wonders how this will play out. Badly, I suspect, unless Merkel, as the main player, discovers talents for statesmanship which have not hitherto been in evidence.

The considerations that will maintain CAP spending have, unfortunately, little to do with economic considerations – except in the case of the ultra-efficient Dutch and Danish (and increasingly German) producers – and everything to do with internal politics in France and Germany.

Whether that is an advantage or a disadvantage for Ireland, it is hard to say. The lack of what I believe is called “vertical integration” in Irish agriculture is of such long-standing as not to be even perceptible to those involved. On the other hand, one must look to the bright side and consider the international success of companies such as Glanbia wherever it is happening.

Of course any government expenditure is spending other people’s (taxpayers’) money, and there can be good reasons for such expenditure, including at the EU level as you point out.

What I refer to, however, is the asymmetry between powers and responsibilities for the two institutions, the Council and Parliament, in the EU budget process. Although in principle a joint endeavour, my impression is that responsibility for taxation and spending is more diffused than at national levels, with the Council taking more responsibility for taxation and the EP for spending. The EP thus faces a very weak budget constraint when making decisions on spending, and invariably supports higher EU spending as a result.

@DOCM
Many useful points, thanks. Rebates are only one of the contentious issues on the agenda of the Special European Council to discuss the MFF in November. The financing structure of the MFF (the composition of own resources) as well as the composition of spending all have the potential all have the potential to be deal-breakers.

“My impression is that responsibility for taxation and spending is more diffused than at national levels, with the Council taking more responsibility for taxation and the EP for spending”

Si, agreed. Member-states have failed to internalise the extent of their fiscal inter-dependence. They impose externalities on to other countries whose interests they do not attend to. This is further exacerbated, as you outline, by the diffusion of responsibility between the council and EP. The proposed centralisation of budgetary powers, as stated in the EU Council report ‘Toward a Genuine Economic and Monetary Union’, is precisely designed to overcome this. The long term goal being a centralised finance ministry.

I would beg to differ! The impact of the UK rebate is to link all the elements together (hence the reference by Charlemagne to spreadsheets!).

The clearest example of this is the distinction that had to be made with regard to expenditure in the new member states – other than agriculture – by way of exclusion from the calculation of the UK rebate as the impact of a higher percentage of “allocated expenditure” in these countries serves to reduce in percentage terms the amount that the UK gets and, therefore, serves to increase its rebate! The effort to get over such paradoxical elements in the mecahnism is what has given rise to a mind-boggling series of special deals for countries that feel ill done by. The broad categories of expenditure will not change that much.

The key measure has to be the relationship between GNI and operational balances. As the Commission in its annual report notes;

“In this context it is, however, important to point out that constructing estimates of operating budgetary balances is merely an accounting exercise of certain financial costs and benefits that each Member State derives from the Union. This accounting allocation, among other drawbacks, is non-exhaustive
and gives no indication of many of the other benefits gained from EU policies such as those relating to the internal market and economic integration, not to mention political stability and security”.

That is the crux of the matter. Only Germany can oil the financial wheels to get an agreement.

Incidentally, it would be interesting to know what the drop in wealth in Ireland will have under entitlements for regional spending (if any).

It is interesting that CAP dramatically increases from its intrinsic level the income derived from assets known as “Agricultural Property” (or “farm land” to be approximate).

The value of an asset like farm land is in large part determined by the income derivable from it and longer term interest rates on safe assets.

CAP inflates the price of farm land.

The more these interest rates fall, the more valuable the income stream is.

These interest rates usually fall in response to downturns in the business outlook, so it kind of evens out – but CAP means the general business outlook doesn’t apply.

Farm land values are boosted by interest rate policy and CAP transfers.

Is there any irony at all in the way that the high levels of capital wealth accumulated by owners of “Agricultural Property”, or at least the windfall part of it that results from CAP and interest rate policy, are so assiduously protected from capital taxes?

They are organised, they lobby and they make sure they vote.

“What we have we hold.” is the simple and, for them, effective philosophy

10/31/2012
London and Berlin Demand Cuts
Sparring Expected over Next EU Budget

Only weeks ahead of the next major European Union summit, negotiators in the member states are seeking to draw lines in the sand over the club’s next budget. Both London and Berlin are demanding significant cuts, placing them on a collision course with the European Commission and many Eastern European countries.

…Nearly three-quarters of the EU’s annual budget is spent on farming and infrastructure, with some 40 percent of that going to agricultural subsidies. Airports, highways, bridges, railway tracks and other infrastructure projects account for about 35 percent, according to Reuters.

The EU budget represents about 1% of total EU GNI and 2% of total EU government expenditure. In the broader scheme of things, the money involved is peanuts. However, it is much easier to be on the net recipient side of the ledger – as Ireland has been since the country joined the EU – than the net contributor, which the UK has been in the same period. Hence the political difficulty, first for Thatcher and subsequently for all her successors.

The essential political point is that the EU budget exists (i) as a historical compromise between the two largest founding states – France and Germany – in relation to agriculture and (ii) to compensate weaker countries for opening up their markets fully to the stronger economies.

In short, it is a political construct without any macro-economic utility at an EU level. Of course, it can have a big impact at a national level which is why the new member countries are up in arms at the most recent effort of the Cypriot presidency.

The fundamental point remains, however, that benefits and costs cannot be assessed in isolation from the wider economic picture and notably the benefits accruing from the crisis in the euro to (i) the core member states of the EA and (ii) those that either negotiated an opt-out from the euro (the UK and Denmark) or are benefiting from the tolerance of the other countries for an ambiguous situation i.e. Sweden.

Leaving aside the position of the UK, which is sui generis but which has – paradoxically – defined the parameters of the negotiation, the countries concerned, and notably Germany, have to decide whether they wish to use their current advanatge to advance the interets of all or to push it for all it is worth. I fear that the latter may well be the case.

That was an excellent link that you posted re EU budget. My interest was raised by the Channel 4 news re Labour putting a spanner in the UK position.

Less that 1% of GNI is very little for the larger economies to pay for EU access for their products, particularly into peripheral disadvantaged regions, where often surplus product is dumped for prices that barely cover marginal costs.

However while I recognise that the EU has been an extraordinary political and economic achievement, my view has soured considerably (rationally or otherwise) over the past four years.
They may get their money, but it will not have sufficient goodwill attached to it, to buy any more of their products.

@ DOCM
I get the sense that you don’t fully appreciate how endangered the European project really is. It has lost popular support. The peripheral countries are one austerity budget away from begrudging acceptance to active rejection.

Ironically it is the European core that is most “sick” with its appalling demographics and repressed consumption. The core is only viable by enslaving the periphery. This incarnation of Europe is over.

It is undoubtedly the case that the economic events associated with the first ten years of the euro’s existence are leaving a sour political taste and not just in the periphery. But this is attributable to misplaced confidence in a faulty initial design.

My own view for the future is neither optimistic nor pessimistic. The two conclusions that I draw are (i) that the participants cannot now abandon ship (with the possible exception of Greece) and (ii) the basic economic parameters have not changed much in the economic relations between states other than that the weaker ones now also have to cope with the consequences of a ten-year credit binge.

Grumpy provided this chart on another thread that sums up the impact of that misplaced confidence.

Maybe someone expert could extend it to the situation today. There is a return to the status quo ante, Greece again being the exception. Irish bond spreads, for example, are back below those of what used to be referred to disparagingly as the Club Med countries.

The medicine to get rid of the debt hangover is what is mainly at issue cf. this commentary by Pat McArdle.

Can’t say that I’m a fan of Birgitta Olsson but her assessment that investing in farming over investing in infrastructure isn’t about investing in the future, it is about investing in special interest groups over the needs of the broader population.

Or is it because an organisation that has failed its last 18 audits (serious breach of obligations!) have limited credibility and no arguments to support an increase in its budget so it has no other option but to resort to ad hominems?

And please note that Sweden is not in the euro as Sweden does not meet the eligibility criteria to join.

Though I have an interest to declare (farmer) I do think CAP needs to be reformed. And there certainly needs to be a limit on what an individual can receive from the SFP. However it is worth baring in mind some points:

Historically governments have always intervened in food markets. Even the Egyptians did (still do). At present I can’t think of a single country that doesn’t apart from New Zealand. US, China, Russia, Argentina virtually every country does in some way or other. There needs to be reform but not removal of government intervention as food production is too cyclical, too weather dependent and important for people not to have some government control.

Comparing Irish agricultural income with 2011 is difficult as prices and yields were unusually high that year, having risen by 30+% on 2010

@ DOCM
But….this is not what it’s meant to be about. Economics serves people – not the other way around.
Bond yields could shoot up again after Greece. And since they’re back stopped anyway they’re not a real indicator of anything.
Unemployment and general misery matter too

I really do not know what your point is but, for the record ” ad hominem (Latin for “to the man”), short for argumentum ad hominem, is an argument made personally against an opponent, instead of against the opponent’s argument” courtesy Wikipedia).

What criteria for euro membership does Sweden not meet?

@ Danny Haskins

The point that you make is the most significant one and almost invariably missed in commentary. What distinguishes the CAP from other areas of EU economic policy is that it is a managed market. It suits the major countries, with the exception of the UK, to keep it that way.

Good point! In fact, the answer is that Sweden’s banking legislation is considered – by mutul consent of the parties – not to be in accordance with the required euro membership criterium.

@ Jesper

Ad hominem remarks are made in respect of persons, not countries.

Sweden is not in a position to give lectures to any other country of the EU and least of all meber countries of the EA that have accepted all the requirements of membership. Countries, such as the UK and Sweden, that insist on dining a la carte at the European menu deserve to have this pointed out.

Britain is deeply opposed to the draft European Union budget and is threatening to veto it. Germany too has its doubts. The two countries could torpedo the upcoming EU summit, but Chancellor Merkel is eager to find a compromise. Prime Minister David Cameron, on the other hand, has his hands tied — and a protracted battle may ensue.

DOCM alternates in the spinning machine – so care with the ad hominems and/or ad feminems and woe betide any mention of how Sweden elegantly and decisively stuck it to the Financial System when it went dodgy in the early 90s!

‘My own view for the future is neither optimistic nor pessimistic. The two conclusions that I draw are (i) that the participants cannot now abandon ship (with the possible exception of Greece) and (ii) the basic economic parameters have not changed much in the economic relations between states other than that the weaker ones now also have to cope with the consequences of a ten-year credit binge.’

In neutal on ‘sentiment’ – must check me Virgil ….

On Argumentum and the UNSAID… and .. er.. not really worth bothering to mention the dodgy financial system in the core and the er ruinous capital flows and flawed lending decisions from said core … coz .. coz … your argementum is that SERFS MUST ALWAYS PICK UP THE TAB FOR THE SINS OF THE FINANCIAL SYSTEM ….. Dear Lorenzo will be so pleased with you …..

Ad hominem/Ad feminem: you are not getting the spinner of the month for October …

How many times have we see that phrase over the past few years, to explain, if that is the word why nothing can or nothing will be done to resolve anything.
So in reality, the priority in Europe is not growth, not unemployment, not financial stability, not debt, not inflation.
The priority for all Europeans is the re election of Merkel.